Behind PM Abe’s Wage Push in Japan: Dueling Economists

Japan’s Prime Minister Shinzo Abe has pointed to the need for higher wages to help create a positive economic cycle.

Reuters

The next big test for Abenomics comes Wednesday when Japan’s major companies decide whether to raise base salaries for the first time in years. Shinzo Abe, Japan’s prime minister, has cast a spotlight on the question, with his unusual public campaign pressuring executives to lift worker pay.

Behind that push lies a little-noticed rift among the academic economists shaping the battle to end the country’s long slump. The heart of the debate: Have stagnant wages been a cause, or a result, of deflation? And will lifting wages cure the disease, or, absent other fixes, just create more ailments?

“I believe wages hold the key,” Tokyo University Prof. Hiroshi Yoshikawa told The Wall Street Journal recently. “Japanese wages started to fall in 1997-98, and that has caused deflation to take hold.” That’s the core argument of his book, “Deflation,” published in January 2013, the month after Mr. Abe became premier.

The book contradicts the driving thesis of Mr. Abe’s closest economic advisers, who had persuaded the prime minister that the single most important factor behind the vicious circle of falling wages and prices was an overly tight money supply, and that the solution was shaking up the Bank of Japan.

“It is wrong to say deflation is due to declines in wages,” Gakushuin University economist Kikuo Iwata wrote in his book, titled “Reflation is Right,” published two months after Mr. Yoshikawa’s tome. Shortly after taking office, Mr. Abe nominated Mr. Iwata to become one of the two deputy governors of the BOJ.

“I do not understand at all what he is thinking right now,” says Yale University’s Koichi Hamada about Mr. Yoshikawa’s theories. “If you just force wages higher—be they real or nominal—the supply side would become unable to maintain the current level of employment.” Mr. Hamada is one of the economists credited with shaping Abenomics.

Both Messrs. Hamada and Yoshikawa hold Yale doctorates, having studied under the late Nobel Laureate James Tobin, though the two don’t appear to have overlapped in New Haven.

Etsuro Honda, a Shizuoka University economist who, along with Mr. Hamada, was one of Mr. Abe’s earliest advisers, says he never heard Mr. Abe talk about wages before last year. But he adds that Mr. Abe is a “pragmatist” willing to try anything that seems useful to counter deflation, and is not wedded to any specific economic dogma.

And so, after launching the Hamada-inspired monetary easing—as well a big new public works program, and a package of structural reforms—Mr. Abe’s evolving economic policy then turned to the Yoshikawa prescription of pushing wage hikes. The prime minister launched “three-way talks” between government, management, and labor in September. Cabinet office officials responsible for selecting three “experts” to join the talks tapped Mr. Yoshikawa.

About the same time, the government also set up a five-member study panel to “clarify the path toward a virtuous cycle” of economic recovery. Mr. Yoshikawa was made head of the panel. In late November the panel reported its conclusion, echoing Mr. Yoshikawa’s arguments. “Nominal wages offer an important clue over why Japan has fallen into deflation,” the report said.

Contrary to the Hamada-Iwata-Honda view, Mr. Yoshikawa says it is hard for the Bank of Japan to inflate the economy because short-term interest rates—which a central bank lowers when it wants to spur growth—are already at rock bottom in Japan.

Mr. Yoshikawa thinks a more successful tactic is pressing companies to lift pay. In most economies, wages don’t fall the way they have in Japan, because of workers’ reluctance to accept pay cuts, and that helps prevent deflation even though it causes layoffs, economists say. But in Japan, where layoffs are generally seen as worse than salary cuts, the opposite has happened, Mr. Yoshikawa said.

During a protracted slump following the bursting of a domestic asset-price bubble in the early 1990s, Japanese firms and unions chose to lower wage levels in order to avoid layoffs, Mr. Yoshikawa said. Once everyone started doing so, it has become hard to stop, feeding the vicious circle of deflation.

“It was like a situation where everyone is watching a baseball or soccer game, standing,” Mr. Yoshikawa said. “You can relax if you sit down, but you feel pressure not to because everyone else is standing.”

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